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Dueling Fools: Berkshire Hathaway Bear

Only a Fool would dare speak the truth to the Oracle of Omaha.

There is no finer investment role model alive today than Warren Buffett. The company he leads, Berkshire Hathaway(NYSE:BRK-A)(NYSE:BRK-B), has been a superb investment since he took the helm of what was once a troubled textile business. Berkshire's past and Buffett's brilliance are not in question. The issue for investors -- in Berkshire or any other company -- is the future.

These days, that future is anything but certain. Much of Berkshire's success can be traced directly to Buffett himself. Unfortunately, Buffett must now seriously plan for the inevitable end of his tenure. Between his unprecedently sizeable charitable donation to the Bill and Melinda Gates Foundation, and his recent announcement that he was seeking a successor, Buffett is clearly making plans in that direction. As a result, potential Berkshire investors must consider the business's post-Buffett prospects.

Unfortunately, when compared to what may be considered peers, Berkshire-without-Buffett doesn't quite appear to stack up as well. Of course, Berkshire has no true peers, but it can be considered from three different perspectives: as an insurance company, a conglomerate, and an investment vehicle. There are compelling reasons for investors to consider alternative investments for each of those individual parts.

Dividing Buffett's empireAs an insurance company, for instance, Berkshire Hathaway trades at a premium valuation to its peers. As of this writing, it trades at 14.8 times trailing earnings. It looks richly priced compared to fellow insurers Allstate(NYSE:ALL) at 7.7 and Chubb(NYSE:CB) at 8.5. Certainly, some of that premium valuation can be traced to Berkshire's conservative underwriting practices and strong balance sheet. Still, investors can buy nearly $2 of Allstate's earnings for the same cost of $1 of Berkshire's earnings. Is Berkshire really twice the insurance company?

Insurance aside, Berkshire Hathaway owns a large collection of individual, unrelated businesses, including See's Candies, Netjets, Dairy Queen, and Clayton Homes. With such a varied base of businesses, Berkshire can rightly be considered a conglomerate. Successful conglomerates, by their internally diversified nature, tend to be stable, strong businesses that can pay a considerable dividend to their shareholders. General Electric(NYSE:GE) sports a yield of approximately 3.2%, 3M(NYSE:MMM) weighs in around 2.6%, and even United Technologies(NYSE:UTX) pays roughly 1.5%. Berkshire Hathaway, on the other hand, pays no dividend, despite its tremendous financial strength and impressive internally generated cash flow.

Of course, Buffett is most famous for running Berkshire Hathaway as an investment vehicle for himself and his shareholders. I can't quibble with his past success. Right now, however, Berkshire looks a bit too big for any non-Buffett individuals to manage. With a $164 billion market cap, it's larger than any mutual fund. At that size, a tremendous amount of cash must be successfully deployed for the company to continue to beat the market as an investment.

With approximately $38 billion in cash, and with operations that generated more than $10 billion in new cash in the past year, Berkshire has a bunch of capital just sitting on the sidelines. That makes its chances of sustained outperformamce even slimmer. If Buffett can't find compelling investments for more than 20% of his company's market cap -- while ever more cash rolls in -- why should we believe that his successor will fare better?

Berkshire's big problemBerkshire Hathaway trades at a premium to other insurers, is stingier to its shareholders than other conglomerates, and looks to be too cash-rich to invest its entire hoard successfully in the future. Considering the future of the company without Buffett at the helm, what's the compelling reason to own its stock right now?

Fool contributor and Inside Value team member Chuck Saletta would be honored to be considered for the chance to succeed the greatest investor of our era. At the time of publication, Chuck owned shares of General Electric, and portions of several of the same companies that Berkshire partially owns. You can see his ownership positions here. The Fool has a disclosure policy.

Author

Chuck Saletta has been a regular Fool contributor since 2004. His investing style has been inspired by Benjamin Graham's Value Investing strategy. Chuck also can be found on the "Inside Value" discussion boards as a Home Fool.